Bulletins

Private Equity - January 19, 2010

Private Equity Firms See Agriculture, Education, Renewable Energy and Services as Hottest Asian Investments for 2010 and Beyond

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Private Equity (PE) leaders in Asia may differ in their growth expectations for 2010 and beyond, but they all agree that PE Investments will shift from traditionally attractive sectors such as Information Technology, Consumer and Retail, Financial Services and Real Estate. What are the fundamentals driving this trend and what strategies will PE firms pursue?

At the end of 2009, GIA conducted wide ranging one-on-one interviews with 20 business leaders within Asia’s Private Equity industry, including senior executives from GE Capital, Morgan Stanley and CLSA. The results of these interviews as well as ongoing market monitoring on PE industry trends by GIA have been published in the white paper, “Asia Private Equity Leaders’ Outlook”. The paper assesses the current state of private equity in the Asia Pacific region, explores regional developments and aims to identify key investment strategies used by fund managers.

Projected Shift in PE Investment Focus in Asia Pacific

GIA_BULLETINS_Asia Private Equity Leaders' Outlook Table 1

Investments in Asia will return ‘back to the basics’ as well as some new sectors. Strong interest in Agriculture, Education and Renewable Energy has been driven by a tidal wave of interest in sustainable development projects across the board, many of which are subsidized by massive government spending, while Agriculture is also seen to hold big upside driven by strong secular growth in global demand for agricultural products combined with constrained supply and high commodity prices.

On the strategies that PE firms are likely to adopt for their Asian portfolios, we ask the co-authors of the white paper, Nicolas Pechet, Vice President and Head of GIA Group's operation in China and head of the firm’s global Private Equity practice and Vishwanath Desai, Senior Consultant at GIA who is based at the firm’s Hong Kong office.

What were the main consequences of the global financial downturn on PE activities in Asia during 2009?

Nicolas: “Firstly, there has been an overall improvement in valuations and deal terms for investors. PE firms with ample cash reserves benefited from the lack of liquidity in the capital markets by being able to negotiate more favourable valuations and deal terms.

Secondly, competition from “me too” deal-makers was moderated during this period as many PE firms with limited cash reserves on hand and difficulty in raising new funds shifted focus to supporting existing portfolio companies rather than seeking new investment targets.

Thirdly, PE firms opted to defer exits and to hold existing portfolio companies until more favourable exit conditions returned. In the meantime, increased focus was placed on improving portfolio company performance.

On the whole, Private Equity firms that are more focused on Asia were less impacted by the economic crisis as compared to many US- or Europe-focused funds. Our research shows that Asia funds with less exposure to export oriented portfolio companies were least affected during the recent downturn. Moreover, many savvy PE investors used the downturn to generate value as a result of tempered competition for deals and fewer options for companies to obtain funding from illiquid capital markets.”

What have been the most popular sources of PE deals in Asia?

Vishwa: “PE firms in Asia source the majority of their deals from investment bankers and brokers, and then through their own research. Other sources of deals include referrals from their personal and professional networks, industry experts, and companies approaching them directly for funding. Generally speaking, proprietary deal flow, meaning deals sourced through investors’ own research and networks, is far more attractive than deals sourced via bankers and brokers for a range of reasons. These could include less competitive deal terms, higher trust factor, etc."

What have been the key success factors for deals in Asia?

Nicolas: “Key success factors for growth capital investments in Asia are quite similar to those in the West. Ultimately, many of the fundamentals are the same. However, there are a few key differences.

In the pre-investment stage, developing strong proprietary deal flow in Asia is essential, perhaps even more so than in the West. It is in many ways the wholly grail of private equity investing in the region. That is because in a country like China, for example, there is far more capital available than attractive investment opportunities. Moreover, many of the best investment opportunities in Asia are available only via informal channels. So unless a private equity investor has developed strong proprietary deal flow, he or she will be competing intensely for the relatively few attractive investment opportunities, or altogether excluded from the very best ones. This ultimately means less attractive returns for the investor.

Post-investment, one of the many key success factors would include the ability to create value in the underlying company. Though there is still a huge gap versus the West, business practices in many parts of the region have come a long way over the past 10 years. This means the investor must increasingly bring to bear specialized expertise and management skills to create substantial value in the underlying company. Be in it in improving working capital management, asset restructuring or developing more effective growth strategies.”

What has the flow of PE investment into Asia been like, and how is it projected to change?

Vishwa: “Overall investment activity in Asia is set to grow in the next 3 years. China and India are clearly seen as key drivers for regional growth. Senior private equity executives we spoke with consistently mentioned both countries, and both are featured in United Nations Conference on Trade and Development’s top 5 list of destinations for investment in next 3 years. This does not represent a change in investment trends, as both countries showed the highest growth in FDI inflows in 2008.”

Top 6 FDI destinations, by home region

(UNCTAD Survey)

GIA_BULLETINS_Asia Private Equity Leaders' Outlook Table 2

What else can we learn from the white paper and why is it imperative reading for anyone interested in the topic?

Nicolas: “What makes the whitepaper special is that it allows readers to get inside the minds of 20 or so seasoned private equity investors in the region. The whitepaper brings together the key insights we generated from hours of discussions with Managing Directors and other senior fund managers at leading private equity firms. In a sense, it allows the reader to pull a chair up to the table and partake in the valuable insights offered by those investment professionals.”

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